Money Matters: Consider all costs when deciding whether to buy or rent

Q. My spouse is in the military, and we are considering buying a home and then renting it when she is relocated, which we think will be in a year or two. We are both recent graduates and don’t have much money, but we can get a fixed rate VA loan with no down payment. The mortgage on a $250,000 home will be about the same as our rent, and we’d like to build up some equity instead of just throwing money away in rent. When we move we’d probably have to use a property manager for the rental house so that would be an increased cost, but we figure the rental income will increase each year, eventually covering this cost as well as the mortgage, and the value of the house will continue to rise making this a good investment even if we never move back here. We are thinking that buying a house everywhere she is stationed in the States would not only provide us a home to live in versus renting but also give us a great retirement plan. We’d have all these rental properties with tenants paying off our mortgages and eventually when the mortgages are paid off, a very nice cash flow. We are not big fans of the risky stock market, and this plan gives us a house in which to live and supports us in retirement. Any thoughts you have concerning this plan (pro and con) would be appreciated.

A. That is quite a plan. I don’t have anything against owning rental properties as an alternative or a complement to a stock portfolio, but your plan is not void of risk. It could also become very complicated to manage, especially as you get older in retirement and if not set up correctly a nightmare for your heirs.

Your first decision is whether you should buy a house or continue to rent if you think you will be relocating in a year or two. Kiplinger magazine ran an article a few years ago using a price-rent ratio to determine if it makes more sense to buy a home or rent an apartment. To do this, you look at the median price of a home that would satisfy your needs and divide that by the average annual rent of apartments with similar features in the same geographical area. If the ratio is 18 or higher, renting makes more sense, and anything below 18 indicates that buying a home may make more sense (15 is the historical norm). As evidenced by the recent housing crisis, there is no guarantee that the value of a home will increase.

You state that the mortgage payment will be about the same as your monthly rent, but you need to consider all of the other costs with owning a home. These costs will impact both your current budget and your plan for rental income in retirement. The obvious extra cost will be closing costs, the interest on the loan, property taxes, homeowners insurance and possible homeowners association dues. One often overlooked cost is maintenance. Replacing or repairing a roof, plumbing, appliances, heating and air-conditioning systems can be very expensive. If you are handy, you can save money by fixing these yourself, but it’s still a cost, and most people will need to hire a professional. Maintaining the yard is another cost you need to consider.

Digital Access for only $0.99

If you turn your home into rental property and live in a different state or even a different town, the costs associated with maintenance items will increase since you will not be able to do any of them yourself. Most property managers will include coordination of resolving maintenance issues in their fee (usually 10 percent of the rental income), but the actual cost is your responsibility. Will you be able to cover the mortgage and other costs associated with a rental property if it sits empty while you look for a suitable tenant or if you are unable to get the monthly rental anticipated?

You should discuss liability issues that come with owning rental property with an attorney. They may recommend that each property be owned in a limited liability company, which is another cost you may not have anticipated. Owning properties in different states can be a probate nightmare for your heirs unless you have proper estate planning in place.

Please thank your wife for her service to our country.

Holly Nicholson is a certified financial planner in Raleigh. She cannot answer every question. Reach her at askholly.com or PO Box 97128, Raleigh, NC 27624